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Friday Letter How to buy a bank

Big buyout firms have a lot of money but are struggling to put it all to work. US banks need a lot of money and are struggling generally. This would equal a trend if it weren’t for a pesky Federal Reserve regulation.  

Private equity managers are in a lather over all the buying opportunities presented by the credit crisis, hobbled banks chief among these.  TPG Capital is taking a 23 percent stake in the UK’s beleaguered Bradford & Bingley. But in the US you can’t buy a bank unless you’re a “bank holding company” as defined by the Bank Holding Company Act of 1956. Private equity firms can only directly own up to 9.9 percent of a bank before onerous bank-holding company requirements kick in that affect all the other portfolio companies and firm affiliates.

No wonder Oliver Sarkozy and Randal Quarles of The Carlyle Group wrote yesterday in a Wall Street Journal op-ed that the Fed should update these ownership laws to allow greater non-bank (ie, private equity) interaction with banks. “Private sources of capital. . . have the time, resources and capability to elevate the assets of financial-services firms and make informed investment decisions,” they argued.

In the meantime, private equity firms are not content to wait for the regulators to sing a new tune. Legal sources say that major private equity firms are approaching their limited partners about setting up new funds structured as bank holding companies. These partnerships would have to reside outside of the main firm franchise and focus solely on financial services investments, including banks.

According to Stuart Stein, a partner in Washington DC-based law firm Hogan & Hartson: “The last nine months to a year has certainly seen more private equity interaction than previously, that’s for sure. My expectation is that through 2008 you will see a lot more interest in financial institutions from private equity firms.”

And Carlyle, of course, has no intention of standing still. It has hired James Burr from Wachovia Bank to co-lead its global financial services group. He was immediately trumpeting the party line: “Private equity can play a significant role in recapitalising financial services firms buffeted by today’s tough markets.”

Of course as TPG and JC Flowers have found other jurisdictions are less sensitive – so the ambitious firms can always fish further afield.

But in the US bank holding companies look like becoming the new franchise expansion exercise from private equity firms. At the very least, the idea gives GPs a nice excuse to do something they love – raise more capital.